EFTA01737917.pdf

Sent: Tuesday, August 9. 2016 3:42:46 PM From: "Ens, Amanda" Subject: RE: GEVI Highlights: Understanding when risk parity risk increases / buy the seasonal oil dip / own NKY calendar call To: "Jeffrey E." <[email protected]> image001.log imaae002.ioq image003.ipq image0_0/W2g image005.png imaoe006.Ong image007.pnq image008.ono image009.0ng image010.PfKI image011.0ng image012.0ng image013.0ng image014.png imacie015.ong image016.png image017.0rxj image018.png image019.ong Of course From: jeffrey E. [mailto:[email protected]] Sent: Tuesday, August 09, 2016 11:42 AM To: Ens, Amanda Subject: Re: GEVI Highlights: Understanding when risk parity risk increases / buy the seasonal oil dip / own NKY calendar call Take me off wide email On Tuesday, 9 August 2016, Ens, Amanda < wrote: Highlights from this week's Global Equity Volatility Insights US: Quantifying the (bond-equity correlation) risks to risk parity • Last week's sharp sell-off in JGBs renewed fears of forced selling by risk parity funds (Chart • While the drawdowns in US Treasuries, US equities, and ultimately risk parity portfolios were small and short-lived [Chart 21, the latent risk remains worth monitoring, as o (i) leverage is still near max levels across a variety of risk parity parametrizations [Chart 31, o (ii) bond allocations arc historically elevated, and EFTA_R1_00024948 EFTA01737917  o (iii) markets continue to be skeptical of a 2016 Fed hike • Hence we provide a simple scenario tool to help investors assess what relative moves in bonds & equities could catalyze significant deleveraging by rules-based risk parity funds [Chart 41 • For example, a -2% daily decline in the S&P 500 coupled with a -0.6% fall in lOy Treasury prices (poor diversification) could trigger a 25% deleveraging (of unlevered notional) today, whereas a -4% SPX drop and +1% Treasury rally (good diversification) would generate no selling pressure, underscoring the critical role played by bond-equity correlation in governing the severity of potential risk parity unwinds. Last week's sharp sell-off in JGBs did Consequently, risk parity portfolio Hence risk parity funds did not de-lever not spill-over into US Treasuries volatility remained quite muted materially and remain highly levered / San Bel4 Veit Own,Ghtar keseato Co% dab frce Son Ea% Ve^i Lnicn °coal Researth Fog,. Lsol name Son Fe% Veit Until Cktal Ptsexcn 63le frcrt 31. 16 Mk* SOup-16 and ccerere an:comb art's, the hgoPotal rape* Der,12 frog' 21-)..n-76 (cut, Lee mere. end anode, mostrol an reccond ty bo SIPSC0 10 -Tor us Trom.rf orryznot *the To firm:No:cal roe pity aro soda. 0,4 Pt SSP 65O Inlet moth.; Risk Net wesolcd by Pt S&PS'0. 10.Y.a. VS Prow) Boit* in; Pe *aft" tee telennted rd rottarCod etegM tong crc 12. SSP GSCI Inckx foOtc,,01, RaA Der11ISX4bre re t%rl reeLTO Kielty entloortalore Hakarti voistOf 0okenroxl red ,ttidarvol notNy owl o", 12-reqh !salmi cakarial usn; EAR witt a keg:deowed lo 0 54 atatt and caniatcm Current theoretical deleveraging amounts (of unlevered notional) for an equity/fixed income risk parity portfolio with an 8% target volatility overlay and 2x max leverage cap Assumes a trailing unlevered volatility of 3.1%, untevered equity and fixed income weights of 22% and 78% respectively and leverage at a maximum of 2 0 times EFTA_R1_00024949 EFTA01737918  Source. BolA York troth Octal %lora Casco diAir.Id (gut, vd (Cad core cwwfl orn do tooreka rat ROIreslrenl ere WrefletO1 Of UP 503 WS robm rtl 10.Yor VS!fowl Futures Mid rWm RA Wel Smarm ro doorerbod meet/ Ed rObrreed Long per I7. rent% .S Ulmer/ Ocrtkilo "Arty b leirrring Woe dSy barge reerred EINA we, fl df NOW 17 0 $i Europe: Buy the seasonal oil dip via bullish X-market risk reversals Levered X-market risk reversal: Sell 1x USO 3M 25d (-88% strike) puts to fully fund 2.1x SXEP (Oil & Gas equity) 25d (-106% strike) calls (indic.) • The seasonal sell-off in oil presents a 'buy the dip' opportunity according to our Kts who expect prices to rebound to $55/bbl by year end • BofAML strategists have turned bullish Oil & Gas equities given more CB (BoE) easing, attractive div yields and exposure to the EM recovery narrative • SXEP has been the wont performing SXXP sector over the last 1M, suggesting it has ample scope to rally if it is to catch up to the broader equity market (lu chart) • USO puts are rich vs. SXEP calls: The number of long SXEP 25d calls that can be fully funded by selling I short USO 25d put is near historical highs (90th %lie since '08, 2i0 chart) • SXEP calls would have offered better value than USO calls at current levels in terms of average historical payoffs as well as the frequency of positive returns (3nd chart) • CSPP has purchased an outsized proportion of Energy corporate bonds and this has yet to feed through to equities according to our credit strategists (4'" chart ) EFTA_R1_00024950 EFTA01737919  • Potential USO losses may be dampened if the recent S/Oil correlation persists: Since mid-2015 oil drawdowns have largely coincided with USD weakening (5" chart) • Alternative (unlevered) implementation: Sell USO 25d puts to fluid fully fund closer to the money SXEP calls for early participation in any potential SXEP rally (6" chart) SXEP (Oil & Gas equity) has been the worst perfonning Stoxx 600 sector over the last The leverage provided by the X-market risk reversal ( IM SXEP call / short USO put) is attractive from a histor standpoint Source BA% AlernO I.)nch Global Ro(:arch Diu from trek16m %Au.-16 Same BoIA Altai Lynch Global Re arch aux n of !-Ault•16. using Indkoln ax , Permits time larl-OS Number of bonds purchased by the ECB in their CSPP programme by sector Oil drawdowns have recently coincided with S weaken Source BMA Mern111.)nch (Bohai Research Source BorA MoralLynch Global ReAll/Cil. Dii. Ilium IS-Apr-07 to $-Aurr.16. EFTA_R1_00024951 EFTA01737920 Asia Pacific: Own NKY calendar call going into the uncertainty Sep BOJ • Trade update: Closing the NKY Aug/Sep put calendar trade opened on 25-Jul • NKY & USDJPY IMth vols are down to YTD low: Pricing in a slow summer • USDJPY 2M-1M term structure at its steepest & NKY's in its 98th %-ile since 2011 • BofA ML: BoJ plans for Sep16 'comprehensive assessment' create uncertainty • Market expectation for the Sep BOJ in terms of fwd vol is the near its lows YTD • A further squeeze in US and Japanese yields is most positive Japan in Asia • Buy lx NKY Oct 17500 call, short 0.65x Sep 17250 call: Gamma neutral, long vol Indicative pricing (as of 1-Aug-16, ref: 9120): ➢ Buy lx NKY Oct 17500 call: 1.13% (V187) (iv: 19.2, delta: 24%, gamma: 3.8%) ➢ Sell 0.65x NKY Sep 17250 call: 0.66% (CIO) (iv: 16.9, delta: 23%, gamma: 5.9%) ➢ Net: 0.70% (V116) (delta: +9, vega: 0.08%) Japanese equity volatility has dropped to USDJPY 2M-1M ATM term structure (1.7%) YTD lows; USDJPY short-dated vol also is at its 5-year high while the NKY 2M-1M retraced to near YTD low levels term structure (1.5%) is at its 98th percentile Source: BotA Meng Lynch Global Research Daly data from 5-Jan-16 to 5- Source BMA Memo Lynch Global Research Aug.16 EFTA_R1_00024952 EFTA01737921 Current NKY Sep-Oct ATM volatility is The Nikkei is the most sensitive to rising USD cheap relatively to implied volatility going into and JPY rates among Asian indices previous BO! meetings in 2016 Source 801A Mein' Lynch Global Research. Source BolA Merrill lynch Global Research Weekly correlation since 2010 Mark-to-Market of the long I x NKY Oct 17500 call, short NKY Sep 17250 call structure Source BolA Memll Lynch Global Reseansh Assume volatility stays constant Week in Review: US equities at new all-time highs on upbeat employment report • The SPX vol term-structure steepened materially on lower shorter dated implied vol with the lyr-lm ATMf implied vol spread reaching its highest level in almost 4 years [Chart IJ • Near multi-year flat call skew on Biotech (IBB) makes long call spreads an attractive option strategy to initiate or replace long positions to lock-in profits from the recent strong EFTA_R1_00024953 EFTA01737922  rally [Chart 2J • The 2016 election move implied by the V1X term structure is, in our estimate*, approx. I.4%... [Chart 3) • ...which is notably very close to the typical SPX daily realized move post-elections since 1928 'Chart 4) The SPX vol term-structure steepened materially on Near multi-year flat call skew on Biotech (IBB) makes lower shorter dated implied vol with the 1yr-1m ATMf long call spreads an attractive option strategy to initiate implied vol spread reaching its highest level in almost 4 or replace long positions to lock-in profits from the years recent strong rally r . Source BolA Merrill Lynch Global Research Daily data from 8,Aug.12 to 8 Source BolA Mernfl Lynch Global Research Daily data from 5-Aug-11 to 5- Aug 16 kg 16 The 2016 election move implied by the VIX term ...which is notably very close to the typical SPX daily structure is, in our estimate. approx. 1.4%... realized move post-elections since 1928 Source BofA Merrill Lynch Global Researdi Daly data from 2-Jun-09 to S. Source Da Merril Lynch Global Research. Data from Nov-28 to Aug-I6 Aug-16 EFTA_R1_00024954 EFTA01737923  US E uity [kris:ithe. Research I BofA Merrill L ch I Merrill Lynch, Pierce, Fenner & Smith Incorporated I +I 646455- 5480 dn.rsch am m-leas cattily dcrivatisestihaml.com , relating to this e-mail. please visit ss-ww.bankofamerica.cointemaildisclaimer This message, and any attachments, is for the intended recipient(s) only, may contain information that is privileged, confidential and:or proprietary and subject to important terms and conditions available at httwiiwww.bankofainerica.comtemaildisclaimer. If you are not the intended recipient, please delete this message. This message, and any attachments, is for the intended recipient(s) only, may contain information that is privileged, confidential and/or proprietary and subject to important terms and conditions available at http://www.bankofaincrica coin emaildisclainicy. 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